Insurance Journal – Page 20

RRSPs, RRIFs and insolvent estates

At issue

Where there is a beneficiary designation on a RRSP or RRIF, the funds in the respective account at the annuitant’s death will be paid to the named beneficiary. Specifically, it is the gross funds that the financial institution will pay out, with the associated tax liability being borne by the estate of the deceased. If the estate does not have sufficient assets to pay the tax liability, the Canada Revenue Agency can seek payment of the associated taxes from the beneficiary.

Depending on circumstances, this can cause troublesome complications for a beneficiary, and also for the executor of such an estate.

2011-04022391I7 (E) – Insolvent Estate of a Deceased RRSP Annuitant

A deceased’s estate has primary liability for the income tax associated with inclusion of RRSP proceeds in the deceased’s terminal year income. Under ITA s.160.2(1), a beneficiary is jointly and severally liable, and CRA may look to the beneficiary to pay the proportional taxes when an estate is insolvent.

This liability applies whether the beneficiary is a Canadian resident or non-resident. The law cannot however be enforced against a non-resident, as courts of one country will not generally enforce the revenue laws of another country.

2011-0429101C6 (E) – 2011 STEP Conference – Q20 – Insolvent Estates

CRA responded on a series of questions involving insolvent estates.

The Crown has priority over other general estate creditors, though it will stand behind secured creditors. Once an estate is assigned into bankruptcy however, the Crown priority ceases to apply.

With respect to a RRIF that is paid from a financial institution to one or more named beneficiaries, any personal liability of the executor of the deceased’s estate will be limited to the assets under his or her control and that he or she has distributed. Presumably a direct payment to a plan beneficiary from the institution without intervention of the executor would not be determined to have been under the executor’s control.

Where an executor contemplates using estate assets to object to an income tax assessment, there is a risk that the executor could be liable for taxes if the estate is or becomes insolvent. If the executor engages an accountant on behalf of the estate for this purpose, there is a risk that the executor could be personally liable for that cost. Similarly, if the executor engages an accountant using his/her personal funds, there is no certainty that the estate will be obliged to reimburse the executor. A suggested alternative in this CRA letter is for the executor to assign the estate into bankruptcy, leaving it to the bankruptcy trustee to decide whether to object or appeal.

Practice points

A named beneficiary should bear in mind the potential tax implications when receiving RRSP or RRIF proceeds. Before committing those received funds to a large expenditure (eg., travel, a capital purchase or lump sum mortgage payment), the beneficiary should have an understanding of the deceased’s financial circumstances. Such a beneficiary should proceed cautiously if there is a concern about the deceased’s solvency and/or the realizability of assets now held in the estate.
Prior to accepting the role, a named executor may wish to look into the financial status of the deceased, and in turn the prospects for the estate. To the extent the estate is or becomes insolvent, the executor may merely be acting to realize assets for the benefit of estate creditors, and not estate beneficiaries.

Deducting moving expenses

At issue

Generally, moving expenses are personal in nature, and therefore not deductible in calculating one’s tax bill.

As an exception to this general rule, where a taxpayer moves to a new residence for the purpose of carrying on a business or to be employed in a new work location, related moving expenses may be deductible. In order to qualify for the deduction, the taxpayer must move a minimum of 40 kilometres closer to the work location.

This is one rule where it is worth exploring how the rule can apply in circumstances where its availability is not so obvious.

Wunderlich v. R., 2011 TCC 539

The taxpayer began working for his employer in 2004. After accepting a promotion in 2007, he decided that he could more effectively carry out the new job function by moving closer to that same workplace where he had been located from the beginning. The move occurred in 2008.

On reassessment, CRA accepted that the 50 km distance and the nature of the expenses fit within the rules, but denied deductibility on the basis that it was not a “new work location.”

The judge determined that the definition of “eligible relocation’ did not require that the move occur immediately on commencing employment, and that notwithstanding the four year interval, the taxpayer would be entitled to the claimed $33,160 deduction.

2011-0394741E5 (E) – Moving Expenses – Expanded Sales Territory

The facts in this CRA inquiry describe a taxpayer who began employment as a part-time retail sales merchandiser in 2001. Her role and responsibilities changed and expanded periodically, eventually becoming full-time by 2007.

With the addition of new territorial responsibility in 2008, she was traveling as much as 120 km and 2 hours to reach the perimeter of her territory. Roughly at the same time, the employer was acquired by another corporation. Owing to concerns with job security, she decided not to make an immediate move, but did move 100 km in 2010.

The CRA representative acknowledged the connection between the 2008 territorial expansion and the 2010 move. Furthermore, it was accepted that the expansion of a sales territory sufficed to result in a “new work location”, and therefore any qualified expenses would be deductible.

2005-0138461E5 (E) – Moving Expenses – Self-Employed Individual

The taxpayer moved from rental accommodation to a purchased residence, part of which was devoted to a new home-office. In CRA’s view, the reason for the taxpayer’s relocation must be to carry on a business at the new work location. For clarity, that means that a move to a new residence for personal reasons will not be an “eligible relocation” simply because the taxpayer’s business accompanies the taxpayer and becomes housed at that new location.

Where however the relocation fulfills a business reason such as being closer to a potential new market or to suppliers or specialized equipment, the deductibility requirements may indeed be satisfied.

Practice points

A move need not occur concurrently with the employment change, but to the extent that there is a delay then there must still be a provable nexus between the two events.
For employees with field responsibility, there is some latitude for defining a new work location by reference points rather than strictly as a point in space.
For a relocated self-employed taxpayer, the business aspect must be a “reason” and not merely a result of a personal motivation.

Appealing penalties for unreported income

At issue

There is an inherent danger in a self-reporting tax system that an individual may fail to report income. Checks and balances in the system expose such gaps and/or influence taxpayers to diligently report their income, for example the requirement for employers to report employee income directly to the Canada Revenue Agency.

In situations where income has been unreported, it may be possible for a taxpayer to rectify the situation and request that penalties be waived. While courts may get involved, such a waiver remains in the discretion of the Minister of Revenue as represented by CRA.

Dunlop v. The Queen, 2009 TCC 177

Where there has been unreported income in any of the three preceding years, a penalty of 10% applies to any current year’s unreported amount.

Dunlop was a university student employed on a part-time basis with a supermarket franchise. For 2005 tax reporting, he did not receive a T4 slip and did not report the income. CRA received its copy of the T4 and reassessed Dunlop, and the tax was eventually paid.

For 2006, he again had not received his T4 by April 2007, and attended at the employer’s location to obtain it. The franchisor lived in another city and did not deliver the T4 prior to April 30, so Dunlop estimated $5,250 as the income in filing his return. He was reassessed in October 2007, about the same time as the T4 arrived in the mail. The actual income was $5,526, and the penalty on the reassessment was $646.

The court allowed the taxpayer’s appeal based on his diligence in reporting the source and nature of his income, though obviously not the exact figure. The penalty was reversed.

CRA 2010-0356361I7 (E) – Due Diligence Defence to a S. 163 Penalty

The taxpayer was reassessed for failure to report some interest income for the 2004 taxation year. With respect to the 2005 taxation year, the taxpayer discovered an error late in 2006 and requested an adjustment to dividend income due to attribution from property transferred to his minor child. On reassessment, a 10% penalty was added.

The taxpayer sent an email to CRA requesting that the penalty be vacated. The request was granted, with the official citing that it would not be reasonable to assess such a penalty when it was the taxpayer who initiated the steps to rectify the omission.

Spence v. Canada Revenue Agency, 2012 FCA 58

Spence had a small amount of unreported income in 2004. A tax preparation firm prepared his 2006 return but failed to include a T4 slip, resulting in reporting income of $21,696 when it should have been $57,915. Once source deductions had been accounted for, the reassessment reduced his tax refund by $123.98 to $2,419.10, but also assessed penalties and interest related to the unreported income in the amount of $7,623.85.

With the support of the tax preparation firm, the taxpayer made a request to the CRA fairness committee, but it was denied. The taxpayer then applied for judicial review by the Federal Court, and an order was made in 2010 setting aside the committee’s decision and referring the matter to a different ministerial representative for redetermination.

On reconsideration, CRA again refused to exercise discretion to cancel the penalty. An appeal to the Federal Court was dismissed, and this was upheld on appeal to the Federal Court of Appeal. A factor in determining the reasonableness of the decision was the substantial discrepancy in the reported amount that Mr. Spence “ought to have noticed” before being detected by CRA.

Practice points

Be sure that all T4 slips are in hand well prior to the tax filing deadline, so as not to be in the position of having to file an incomplete return.
If unsatisfied, appeal may be made through CRA channels, and if unsuccessful then on to the court system.
A court may only order the Minister of Revenue to reconsider exercising discretion to waive the penalty, so a clear record of one’s due diligence is important.